Mega-deals boost power and utilities Q2 global deal value by 30%

London, 6 August 2013

Newsroom

While volumes remained flat, a handful of ‘mega deals’ during Q2 2013 in the global power and utilities (P&U) sector sparked a 30% rise in mergers and acquisitions (M&A) value to US$33.0b, up from US$25.3b in Q1 2013, according to EY’s quarterly Power transactions and trends report released today.

Asia-Pacific M&A value rose 71% in Q2 2013 on Q1 2013, with Chinese inbound M&A activity contributing 81% to the region’s deal value. Restrictions on ownerships of power assets in Japan and low domestic profit margins in China means this is likely to increase further in the coming months as utilities are pushed to explore foreign acquisitions.

Joseph Fontana, EY Global Transactions Power & Utilities Leader, says: “Outbound Chinese investment continued in Q2 2013, with two key deals featuring China’s state-owned grid operator moving into the Australian power sector. Lower profit margins in the domestic market are prompting the Chinese utility to explore developed markets, which offer a stable regulatory environment and relatively higher returns.”

US utilities focus on local growth

While US P&U utility stocks continue to trade well above 10-year historical averages, the recent market correction reflects the shifting market conditions in the sector. During Q2 2013, US utilities continued the tough search for growth through M&A activity, with some sizable acquisitions taking place.

Joseph Rodriquez, EY Global Power & Utilities Sector Senior Manager, comments: “A key development we saw in the US market in Q2 2013 was the creation and subsequent IPO spin off of NRG Yield, a unit to operate and acquire contracted generation assets, NRG Energy. Given US investors’ desire for stocks providing above-average yield, supported by low-risk cash flows, we expect other utilities may follow this lead. However, recent news that the Federal Reserve will likely taper its bond buying program may temper this.”

European activity falls with absence of large European divestments

While volume remains flat, an absence of large European divestments meant there was a 46% decline in deal value from Q1 2013. However, large transmission and distribution deals are anticipated later this year and so a bounce back is expected. There is also continued uncertainty on renewable energy regulation in Spain, as the government’s plan to cut subsidies and cap profitability is expected to push developers toward emerging markets with more favorable regulation.

Further afield, regulatory reform has continued to boost investor confidence in India. A revised pricing mechanism for domestically produced natural gas is expected to double natural gas wellhead prices from March 2014, incentivizing domestic exploration and production.

UK water sector stable returns may face regulatory challenges

The UK water sector has proven an attractive destination providing stable returns for financial investors. 2013 has already witnessed five deals worth a total of US$660m, dwarfing the US$300m total deal value in 2011. UK water company share prices have risen by an average of 15% this year, and there’s risk that the high valuations, levels of dividend and other distributions will trigger a regulatory response. Regulator OFWAT will already set prices for five years starting in April 2015, which poses a significant risk to further M&A; but it is expected this would still offer reasonable returns for major utilities.

Looking ahead, Fontana concludes: “The outlook for global M&A activity in the sector is positive, with big deals in the pipeline for Greece, Finland, New Zealand and Africa, as well as robust activity in the US and Western Europe, potentially generating a number of billion-dollar-plus deals in the pipeline for 2013. Financial buyers are also expected to return, with new hubs of financial investment emerging in areas such as Japan and the Middle East providing a potentially interesting second half to the year.”

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About EY’s Global Power & Utilities Center

In a world of uncertainty, changing regulatory frameworks and environmental challenges, utility companies need to maintain a secure and reliable supply, while anticipating change and reacting to it quickly. EY’s Global Power & Utilities Center brings together a worldwide team of professionals to help you succeed — a team with deep technical experience in providing assurance, tax, transaction and advisory services. The Center works to anticipate market trends, identify the implications and develop points of view on relevant sector issues. Ultimately it enables us to help you meet your goals and compete more effectively.

EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients.